Bitcoin Fact and Fiction

Some people are agnostic about Bitcoin. Some people are passionate advocates, and a few are fanatically against it. It is the world's most significant cryptocurrency, digital money that exists nowhere and everywhere, controlled by no government or central bank. It can be sent, received, and held with perfect anonymity. It can arguably be described as digital gold, an asset that hedges against all the world's monetary influences. It is also subject to all manner of emotional reactions: it provokes fear and confusion in some who don't understand it. Today we're going to break down some of its basics and explore the common facts and fiction surrounding Bitcoin.

We'll begin with a brief, simplified overview of Bitcoin for those who need it. Take gold as an example of a currency system. There is a physical supply of gold in the world that you can put your finger on. Bitcoin, while not a physical object, is similar. It is a defined entity that is distributed across all the world's computer networks, with no central server and no owner or oversight. Its size and scope and all its details are publicly known and available for inspection. These rules are all inherent in its architecture and cannot be changed. The world's supply of Bitcoin is exactly 21 million Bitcoin; no more, no less. It hasn't all been "minted" yet, though. Most of it has, and has been assigned to its owners. The rest of it has yet to be "mined" (which is the Bitcoin equivalent of minting a coin). This is done by volunteers worldwide who set their computers to the computationally intense task of solving cryptographic hashing algorithms, and the result of all this computing power is that the public ledger of all Bitcoin transactions (called the "blockchain") is constantly being publicly audited. This is what makes the whole system work. In exchange for this service, miners are paid in new Bitcoins. Increasingly, they are also being paid in transaction fees. As the supply of unminted Bitcoins diminishes, this pay will gradually shift to being entirely transaction fees. The amount of payment, the rate of payments, and everything about this is all public information, so there are no surprises and no questions.

To send and receive Bitcoin, you use a wallet, identified by its own long cryptographic string, and you can get these through any of a number of free and paid software wallet products, and it is absolutely anonymous. It's true that if you lose that wallet, or forget its password, or whatever happens, you lose your Bitcoin and there is no recourse and no hope for recovery. Whatever your balance was is gone from the universe.

But here is a detail that's important to today's episode: While the exchange of Bitcoins is anonymous, converting it to real currency (or another cryptocurrency) is not. This has to be done through an exchange, which works like a bank, and requires proof of identification and real-world financial information. Coinbase is one popular exchange; you can open an account there, fund it with your credit card or bank account, and buy and sell and send and receive cryptocurrency. But they know who you are and they have your banking information.

Since Bitcoin is a software system, it can be copied, and other similar ones can be created. This has been done thousands and thousands of times, resulting in all the other countless cryptocurrencies out there: Ethereum, Monero, Litecoin, Ripple, Cardano, etc. So far none has come anywhere remotely close to the level of adoption and significance of Bitcoin.

So, with that quick overview as our foundation, let's proceed to examine some of the most popular fact or fiction questions surrounding this mysterious cryptocurrency:

Is Bitcoin some kind of scam because it's not actually worth anything?

No, it's not a scam, and just because it isn't backed by anything physical doesn't mean it's not worth anything. Like everything else in the world, it's worth whatever people are willing to pay for it, and they pay a lot for it. Bitcoin does absolutely have real value, as do the dollar and the euro, both of which are also not backed by any tangible physical asset.

There is also enough buy-in by major financial institutions worldwide to settle any questions of Bitcoin's legitimacy. Most banks and investment firms now have substantial portfolios of Bitcoin; it took a while for many of them, but they now agree with Bitcoin's value proposition that it truly is "digital gold".

Is Bitcoin a panacea for criminal activity?

Bitcoin can be exchanged anonymously, and many ransomware attacks require ransom payments in Bitcoin. It is possible to buy illegal pornography, drugs and weapons, and hire hitmen via the dark web all using Bitcoin. Nobody can know who sent or received any of those payments.

While all this is true, there are two basic reasons why only a tiny percentage — about 2% — of Bitcoin transactions are illegal. First is that the blockchain ledger is public. Law enforcement is able to see the entire transaction history of any given Bitcoin wallet. Second, there's no way to anonymously cash out your ill-gotten Bitcoin. You have to use an exchange which requires your personal and financial information, and you'd be arrested the moment you tried to cash it out.

There are ways around both of these. Illegal wallets are typically only used a very small number of times, and Bitcoin balances can be money laundered like any other ill-gotten gains — requiring criminals to conduct legitimate transactions with entities who can more safely cash out their Bitcoins, often at a high commission. But note: prisons are full of money launderers, most of whom were caught laundering cash. Cash truly is anonymous and untrackable, whereas Bitcoin transactions are right there on the public blockchain for everyone to track and analyze. Bitcoin laundering is substantially higher risk.

Can Bitcoin be hacked?

There are two answers to this. Answer number one is that Bitcoin itself cannot remotely be hacked with current technology, as its cryptography is far beyond the ability of any computer systems to break. However, computers are always getting more powerful, and there are concepts like quantum computers on the horizon — which would need to be far more advanced than today's. Many researchers estimate that Bitcoin itself is reliably secure for about a decade, and that decade can be used to keep pace with potential cracks.

Answer number two is that people and companies that use Bitcoin can be hacked, and are, all the time. I can walk into your house, sit at your computer, open your Bitcoin wallet, watch your computer's password manager fill in your password for me, and send myself all of your Bitcoins. Major hacks like this have occurred and will continue to, but there is nothing about these attacks that's unique to Bitcoin or that makes it any more vulnerable than credit cards or bank accounts.

If I hold up a convenience store and steal their dollars, you wouldn't say the dollar has been hacked. You'd say that particular convenience store has bad security. Everything that a lax owner has is at risk, and that's how all known Bitcoin thefts to date have been possible.

There's an interesting idea that compares a potential Bitcoin crack to wartime cracks of enemy codes. When you do crack the Enigma, you don't want the Germans to know it, and so you don't employ your crack until it becomes absolutely necessary. It's been suggested that if the government or some other entity successfully cracked Bitcoin, they would follow the same strategy and not tip their hand by using it to steal from the average Joe. This isn't a safety net that I personally would rely on, but it is an interesting thought experiment.

Is Bitcoin an environmental disaster?

In the early days, mining Bitcoins could be done on a personal computer at home. Today, with the cryptographic problems much more challenging and the payouts much lower, companies set up vast server farms — some costing millions of dollars — to be able to mine profitably. As of this writing, Bitcoin mining consumes a staggering two thirds of a percent of all global energy production, more than most entire countries, and that's rising fast. It has the highest carbon cost of any type of financial transaction.

While we can quantify Bitcoin's power consumption and carbon cost, qualifying whether that's good or bad is up to each person's priorities. All industries have some carbon cost — though Bitcoin is among the very worst — and to some people the benefits might be worth the cost. So we can't state that it's inherently good or bad. It's also noteworthy that about 40% of the electricity comes from renewable sources, and that percentage will also continue to rise — as it will for all other industries that consume electricity.

Is Bitcoin too volatile, and will its bubble burst?

Again, these are subjective questions. Yes, it's volatile, and yes, its bubble has burst several times. Both of these are characteristic of new markets. Typically what happens is that the large swings will calm down as it becomes more established. Bitcoin's value over time has trended upward, and most analysts expect that this too will calm down and it will eventually stabilize into steady appreciation. How steady? Nobody knows. Will its long-term trend continue upward, and if so how steep? Nobody knows, and don't believe anyone who tells you otherwise.

If you lose your Bitcoin wallet or its password, is it really lost?

Yes, it's really lost. There are services out there who offer to help with this, but there's actually only a very few things they can try — like running brute force password attacks against some kinds of password protected wallets. If that doesn't work, or you don't have that kind of wallet, or you lost the long string which is the identifier for your wallet, nobody can help you. Plenty of people who say they can are scammers, so watch out.

Quite a lot of all existing Bitcoins are permanently lost. Nobody knows how much, and estimates vary. It's probably around 20% of the total, worth over a hundred billion dollars. There is no way to know whether a given Bitcoin is sitting in a wallet whose owner has the ability to access it but hasn't, or whether it's in a wallet that was permanently lost ten years ago. Bottom line is that if you do own some Bitcoin, don't lose the information.

And so there you have it. Hopefully Bitcoin is a little less mysterious and less suspicious. And as it is indeed a significant punctuation in the relative equilibrium of the world's history of money, it definitely inspires us to wonder what will come next.

By Brian Dunning
Follow @BrianDunning